Financial Crisis Panel In Turmoil As Republicans Defect; Plan To Blame Government For Crisis

The four Republicans appointed to the commission investigating the root causes of the financial crisis plan to bypass the bipartisan panel and release their own report Wednesday, according to people familiar with the commission's work.

The Republicans, led by the commission's vice chairman, former congressman and chair of the House Ways and Means Committee Bill Thomas, will likely focus their report on the explosive growth of subprime mortgages and the heavy role played by the federal government in pushing mortgage giants Fannie Mae and Freddie Mac to purchase and insure them. They'll also likely focus on the Community Reinvestment Act, a 1977 law that encourages banks to lend to underserved communities, these people said.

The Republicans' report is expected to conclude that government policy helped inflate the housing bubble and that prices weren't expected to crash because the government pushed homeownership so aggressively. They say that the report will note that once the bubble burst, a financial panic followed because firms weren't adequately prepared.

Frustrated in part by the Financial Crisis Inquiry Commission's chairman, Phil Angelides, and the tenor of the panel's preliminary findings, the Republicans are choosing to ignore the five Democrats and lone independent and issue their document ahead of the commission's Jan. 15 release. Angelides is described as a demanding boss who's said to be difficult to work for. Both Thomas and Angelides pledged in January that they'd strive to reach bipartisan consensus.

The Republicans' move indicates that the highly-partisan nature of Washington has infiltrated the commission's work and threatens to derail it. With four commissioners now essentially going around the panel to describe their thoughts on the roots of the financial crisis, the public may not get the full picture when it comes to understanding how the actions of a few led to the worst economic downturn since the Great Depression.

Instead, the public will receive a report that could be discredited as being partisan, and another that is expected to largely conform with a Wall Street-friendly view that blames government for the crisis.

During a private commission meeting last week, all four Republicans voted in favor of banning the phrases "Wall Street" and "shadow banking" and the words "interconnection" and "deregulation" from the panel's final report, according to a person familiar with the matter and confirmed by Brooksley E. Born, one of the six commissioners who voted against the proposal.

"I think a number of us had really pulled for" bipartisan consensus, said Born, a Democratic commissioner who famously tried to regulate certain derivatives as head of the Commodity Futures Trading Commission. "But this action by the Republicans indicates they have decided to go their own way."

Born said the Republicans had not informed the commission of their plans, nor had they shared their report. She said she was "disappointed" because the views of her Republican colleagues would have been "useful."

The other Republicans on the panel are Peter Wallison, a fellow at the American Enterprise Institute, a conservative Washington research organization, who once served as general counsel at the Treasury Department; Keith Hennessey, who formerly served as George W. Bush's senior economic adviser while heading the National Economic Council and now works as a fellow at the Hoover Institution, another conservative research organization; and Douglas Holtz-Eakin, who formerly led the Congressional Budget Office and now heads the American Action Forum, a policy institute in Washington.

The shadow banking system refers to the part of the financial system in which investors and other nonbanks like hedge funds and investment firms provide credit to borrowers, as opposed to more traditional banks. Interconnection refers to the links that bind financial institutions to one another, like derivatives, borrowings, and investments.

"I certainly felt, and I think the majority of the commission felt, that deleting those phrases would impair the commissioners' ability to give a full and fair and understandable report to the American people about the causes of the financial crisis," Born said.

Born said that the Republicans wanted to ban two other phrases "of the same ilk," but she said she couldn't remember what they were.

Thomas and Wallison didn't immediately respond to e-mails sent after regular business hours. Hennessey and Holtz-Eakin declined to comment.

The Republicans' move puzzled some observers.

Thomas displayed populist outrage during public forums at the excessive compensation paid to top bankers. Holtz-Eakin is a respected economist who asked probing questions during the commission's hearings.

Born said that the commission only recently experienced such partisanship.

"There was a lot of consensus on the nature of the investigation," Born said. "All 10 [commissioners] participated in discussions about subjects we should investigate, what our hearings should be about. They all were involved in planning the hearings."

Wallison, though, was expected to dissent. He exhibited sympathy for Wall Street during the panel's public hearings, declining to grill some executives, an activity some commissioners appeared to relish, and focused instead on the role played by Fannie Mae and Freddie Mac.

According to Wallison, as many as half of all home mortgages were given to borrowers with poor credit or who didn't provide proper documentation, like tax forms and income statements, he said during an April 7 hearing. He attributes this to Fannie and Freddie's insatiable demand for subprime mortgages, something he blames on the federal government and its desire to stimulate lending to the poor.

Experts agree that while Fannie and Freddie and the federal government's push to encourage homeownership played a significant role in causing the crisis, actions by Wall Street magnified the fallout and caused a crisis that led to the Great Recession. Economists from the Federal Reserve, as well as bank regulators first appointed by Republicans, agree that the Community Reinvestment Act played virtually no role in causing the financial crisis.

But the Republicans' report will largely focus on the role played by the federal government. It will note that a crisis was averted after the government bailed out Bear Stearns and facilitated its absorption by JPMorgan Chase, according to people familiar with the matter. The crisis roared back after the government allowed Lehman Brothers to fail, scaring nervous investors. A bigger and more protracted downturn was avoided when policy makers essentially bailed out the entire financial system.

Yet while the commissioners knew of Wallison's views, the final report would have benefitted from input by the Republicans, Born said.

Other than Thomas, the Republicans slowly began limiting their participation in the panel's activities starting in early August.

Hennessey and Holtz-Eakin, for example, have missed about half of the commission's meetings since then, according to a person familiar with the panel's activities.

And other than Thomas, the Republicans have provided only limited feedback on drafts of the final report's sections that have been circulated by the panel's staff, this person said.

"All of the commissioners have had the opportunity to review and provide feedback," said Tucker Warren, the crisis panel's spokesman. He said he wasn't aware of any commissioners complaining about a lack of opportunity to address draft findings.

The Republicans are expected to complain that the Democrats on the panel are not giving them sufficient options to air their views. Each commissioner is allotted nine pages in the book version to express alternative or dissenting views, should there be any, Warren said.

That's part of the reason why the Republicans are angry, according to people familiar with the matter.

However, commissioners will have unlimited space on the panel's Web site and in the government-printed version of the report that will be delivered to Congress and President Barack Obama, said Warren.